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What is Carbon Economics?

August 7, 2016


Is Carbon Economics about money?

The key departure of our approach from the general discussion on this subject is that we do not monetise greenhouse gases. Carbon Economics is not about the trading of carbon credits; or the investment analysis for the projects that lower the carbon footprint of an industry sector; or the analysis of the effect the pricing of carbon has on the cost of living. These are important considerations and form part of the study within Carbon Economics. They inform the policy to solve the unexpressed problem. They do, however, miss the point.

The wants are not a product or service and the resource is not money (as is the typical situation in economics). The resource is an 'overdrawn account' against the capacity of the planet to absorb greenhouse gases and the want is avoiding the impact that increasing or even maintaining the “overdrawn account” will have on the quality of life. There is no money involved at this level of the study.

Why does this matter?

Money has a meaning of its own — a meaning that is not equal between people. Money is not a common global mechanism for value — US$1 does not buy the same amount of an equivalent product or service globally even excepting for local taxes and similar distorting influences. Money is not a single item — we don’t use just one currency globally.

Carbon (measured as CO2e) means little to anyone today. Unfortunately, when it will mean something, most people will see it as the harbinger of personal catastrophe (the loss of home or a lack of drinking water, etc). Carbon has the same impact to the climate regardless of where on the planet it is released and a unit of carbon is still a unit of carbon. Carbon isn’t like money. Hence, we might conclude that Carbon is a commodity, simply a new product to price. However, all commodities have a different value depending on where on the planet they are and involve the exchange itself of the commodity or right to the commodity. Certainly if we monetise Carbon, we may have something that is tradeable, but the distinction should be made that we are not trading the carbon itself, but a contract about it. Carbon is no more a commodity than the underwriting traded via an insurance contract.

The need for new tools

More than a century of modern economic theory has provided a great many tools to analyse and compare the value of money over time and the value of alternatives for how money is used. These theories and tools are part of our ability to have increased the quality of life so significantly for so many over the same time period.

A fundamental premise for these tools is that the value of money changes over time due to a single factor — inflation. This provides for money spent or earned in the future to be evaluated in terms of the meaning of money today by discounting it back in time. There are, of course, the different perceptions for the need to spend or the chance to earn in the future. This difference gives rise to dissimilar valuations and much of the trade seen in markets. This apparent variable for the value of money, or more correctly what it can purchase or be invested in, is an emergent outcome from people working with uncertainty regarding the future, not an outcome from the money itself.

The value of Carbon changes over time due to (at least) two factors:

  • The amount of carbon emissions in a given year relative to the sustainable level; and

  • The ease with which the emissions can be addressed.

The first factor is conceptually the inflation of Carbon. The more our emissions depart from the sustainable level, the more valuable the avoidance or absorption of the Carbon. However, it is a significantly more dynamic consideration than monetary inflation as most sources of Carbon remain in the atmosphere impacting the climate for more than a century (so the sooner the emissions stop happening, the less accumulative the stock of Carbon in the atmosphere and thus the lower the effect of Carbon on the climate).

The second factor has no conceptual equivalent as it relates to a change in the relationship for the supply of Carbon. The mechanism for the supply of money does not change, the government of a country mints notes and coins, banks distribute them and money is created through the payment of interest and trading of risk (this is an overly simplistic picture; however, it is illustrative).

Over time, technological development and production scaling will change the relative ease with which the emitting of Carbon can be avoided or absorbed from the atmosphere. This is a key variable for the consideration of carbon emissions in different time periods.

Consider the ability to have zero emission private transport. Today it is challenging at best with emissions-free power to mobilise a car being generally unavailable. In 2050, it will be commonplace and at a price that is competitive with less Carbon-friendly options. This variation in supply availability makes the Carbon in 2050 less valuable than in prior periods. That is, the harder it is to do something about it, the more valuable doing something is.

This difference means that new tools are required to support decisions about Carbon and the study to develop them and consider their impact is the core of Carbon Economics.

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